Oct. 31 (Bloomberg) -- Greek stocks, once shunned by
investors concerned that a default would force the nation out of
the euro, are beating almost every market in the world as a six-year recession eases and new investors consider purchases.

Since June 5, 2012, two weeks before MSCI Inc. gave notice
it may reclassify Greece as an emerging market, the country’s
ASE Index has surged 146 percent, trimming the decline from its
2007 peak to 79 percent. The gains topped all 94 national
benchmarks globally in the period, except Venezuela, according
to data compiled by Bloomberg. Yields on Greece’s 10-year
government bonds have dropped to 8.31 percent from a peak of
33.7 percent in March 2012.

Paulson & Co. and JPMorgan Chase & Co. have bought shares
as emerging-market funds including Renaissance Capital Holdings
Ltd. and Templeton Emerging Markets Group expressed interest.
JPMorgan’s Francesco Conte, who dumped Greek stocks from his
European Small Cap Fund more than three years ago as the
government’s budget deficit spiraled, has purchased stakes in
retailer Jumbo SA and jewelry maker Folli Follie SA after the
world’s biggest sovereign debt restructuring.

“The outlook for the country has completely changed,”
Conte, who manages about $2.8 billion in London, said by phone
on Oct. 24. “I’m very overweight Greece because I find very,
very good opportunities, very well-run companies and very cheap
valuations. Greece is only just emerging from the crisis.
Because they’ve cut their cost bases so low, the profitability
growth is going to be enormous if we get positive GDP growth.”

Budget Deficit

The Greek recession shows signs of easing after the
Mediterranean country cut wages and pensions and increased taxes
to meet targets linked to its two bailouts from the European
Union and the International Monetary Fund. Prime Minister
Antonis Samaras plans to trim the budget deficit to 2.4 percent
next year, down from 9 percent in 2012 and a peak of 15.7
percent in 2009. The government forecast on Oct. 7 that gross
domestic product will increase 0.6 percent next year, the first
annual expansion since 2007.

Flows into equity funds investing in Greece rose 129
percent from the beginning of the year through Oct. 28, compared
with a 15 percent gain for Europe as a whole, data from EPFR
Global Inc. show. Investors have poured $179 million into Greek
stocks this year, according to the data.

Greek Yogurt

“Only nine months ago, global sentiment was, ‘I don’t want
to touch anything Greek, not even Greek yogurt,’” Anthimos
Thomopoulos, deputy chief executive officer of Piraeus Bank SA
in Athens, said by phone yesterday. “Now investors don’t want
to see anything but Greece. It’s a strange, idiosyncratic
market, where you put money in a developed economy, albeit in
distress, with emerging-market type of growth expectations with
a strong currency.”

MSCI, whose equity gauges are tracked by investors with
about $7 trillion in assets, confirmed it would switch Greece to
an emerging market in June this year, having classified it as
developed since 2001. The change, the first time the index
provider had demoted a developed nation, will leave Greece as
about 0.4 percent of the MSCI developing-country gauge, compared
with 0.02 percent of the one it’s in now.

Emerging-market funds with a mandate to follow MSCI indexes
will be allowed to invest in Greek stocks after the change takes
effect following the close of trading on Nov. 26. Mark Mobius,
who oversees $53 billion as executive chairman of Templeton,
said he is looking at listed banks, retail, manufacturing and
fashion companies.

Mobius Realization

“Despite Greece’s problems, we still see potential long-term opportunities,” Mobius said in e-mailed comments
yesterday. “There is a realization that Greece is recovering,
and, with continuing reforms, the growth could improve
significantly.”

Bears say the stocks rally has already priced in Greece’s
economic improvement. The 60-member ASE trades at 32 times its
companies’ estimated earnings, compared with a five-year median
of 11 times and 14.9 times projected profit for the Stoxx Europe
600 Index, according to data compiled by Bloomberg.

“Stocks have been moving up very strongly on the back of
anticipation that things will improve in Greece,” William de
Vijlder, who oversees $657 billion as Brussels-based chief
investment officer at BNP Paribas SA, said by phone on Oct. 24.
“The market is trading at a premium on a price-to-earnings
basis that is quite significant.”

Political Disputes

The nation faces political disputes that may derail its
recovery, with debt forecast to peak at 176 percent of GDP this
year. Samaras’s government, with a majority of just five in the
300-seat parliament, must approve a budget by the end of the
year. In a Marc SA survey of voters between Oct. 1 and Oct. 7,
the prime minister’s New Democracy party won 22.7 percent
approval, while the main opposition Syriza party, which opposes
the terms of Greece’s bailout, got 22.5 percent.

For Kevin Gardiner at Barclays Plc, the risks mean
investors can find better opportunities in Italy or Spain.

“Greece is such a small, volatile market that it wouldn’t
be appropriate for us to single it out to our clients,”
Gardiner, head of investment strategy at Barclays’s wealth-management unit, which oversees $326 billion, said by phone on
Oct. 23. “On a risk-adjusted basis, there are better positions
elsewhere in the rest of the periphery.”

The Greek recession has destroyed almost a quarter of its
economic output and sent unemployment surging to a record 27.6
percent. The ASE lost 91 percent from October 2007 through the
22-year low reached in June 2012. The benchmark gauge rose 1.3
percent to 1,188.17 points at the close of trading in Athens
today, compared with its peak of 5,534.5 in October 2007.

Index Weighting

After Coca-Cola HBC AG, the world’s second-biggest bottler
of the soft drink, switched its primary listing to London from
Athens in April, Greek equities have a market value of $83
billion, less than Kuwait with $107 billion and Qatar with $145
billion, data compiled by Bloomberg show. The country’s
weighting in the MSCI World compares with 52 percent for U.S.
companies and 9.2 percent for Japanese stocks.

After the downgrade, the nation will have a weighting of as
much as 0.4 percent of the MSCI Emerging Markets Index,
according to Deutsche Bank AG. The reclassification may allow
Greek stocks that couldn’t meet the size or liquidity
requirements to join MSCI’s measure for developed equities and
benefit from inclusion in the “MSCI universe,” Priyal Mulji, a
strategist at Deutsche Bank in London, wrote in a report
yesterday.

‘Very Exciting’

“Greece is going to be very interesting for our emerging-market clients,” Benjamin Samuels, global head of equity sales
at RenCap, said in an Oct. 24 interview in Moscow. “Already we
have two or three client trips to Greece lined up to help our
clients get to know the market. That’s very exciting as a brand
new market for us.”

Becoming a bigger section of the investment pool may help
Greek shares, in a reverse of the way MSCI’s upgrade of Israel
might have harmed that market.

Investors withdrew $795 million from Israel in 2010, when
it was raised to developed status. Israel’s TA-25 Index has
gained 16 percent since the promotion from developing economy in
May that year, trailing the 53 percent advance in the MSCI
World. Trading volume tumbled 44 percent through the end of 2012
compared with an average 18 percent global decline, the Bank of
Israel said. Israeli shares now comprise 0.19 percent of the
MSCI World, having previously formed 2.7 percent of the
emerging-market gauge, Bloomberg data show.

While emerging-market fund managers await the final
implementation of MSCI’s downgrade, hedge funds including
billionaire John Paulson’s Paulson & Co. and Dan Loeb’s Third
Point LLC have already bought into Greece.

Alpha Bet

Paulson, known for making $15 billion for his investors in
2007 by betting against subprime mortgages before the U.S.
housing collapse, bought shares in Alpha Bank SA in the third
quarter as part of the lender’s recapitalization, a report to
clients this month showed. His firm, which manages $18 billion,
also bought warrants to purchase 7.41 additional shares for each
common share.

The purchase will “produce high returns if, as we
anticipate, the Greek economy normalizes and the banks return to
profitability,” Paulson & Co. said in the report. Armel Leslie,
a spokesman for the fund at WalekPeppercomm, declined to comment
further when contacted by Bloomberg News.

Third Point

Third Point said in April it would start a Greece-focused
hedge fund, while Fairfax Financial Holdings Ltd., a
conglomerate with investments from Canadian cattle feed to Irish
banks, bought shares in two Greek companies this year. It paid
about 164 million euros ($226 million) to raise its stake in
Eurobank Properties Real Estate Investment Co. to 42 percent
from 19 percent. It also increased its holding in Athens-based
energy producer Mytilineos Holdings SA to 5.2 percent, according
to an Oct. 21 release.

“We continue to support Greece,” Fairfax Chief Executive
Officer Prem Watsa said in the statement. “The country
continues to make great strides towards addressing the key areas
of its economy, thus encouraging foreign investment and creating
a positive momentum that will foster increased employment and
infrastructure development.”

Watsa and Elissa Doyle, a managing director at Third Point,
declined to comment further when contacted by Bloomberg News for
this story.

As an emerging market, Greece will be grouped with Europe’s
other developing economies, such as the Czech Republic and
Hungary. MSCI already classifies euro-area members Estonia and
Slovenia as emerging.

“There are plenty of emerging-market investors who haven’t
looked at Greece for 12 years, and there’s clearly an economic
recovery in the country,” Matthew Beesley, who helps oversee
about $100 billion as head of equities at Henderson Global
Investors Holdings Ltd. in London, said by phone on Oct. 29.
“Greece is a very welcome addition to the benchmarks of
emerging markets in eastern Europe.”